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Information asymmetry and the cost of equity capital

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  • He, William Peng
  • Lepone, Andrew
  • Leung, Henry

Abstract

This study examines the relation between information asymmetry and the cost of equity capital of firms listed on the Australian Securities Exchange. We calculate the ex ante cost of equity capital for constituent companies of the S&P/ASX 200 Index. The bid–ask spread of the companies is decomposed to find the adverse selection component, which is used to measure the information asymmetry of the company. We control for factors generally known to influence the required return on equity, such as sector, beta, firm size, book-to-market, analyst coverage and analyst earnings forecast dispersion. This study documents a significant and positive relation between information asymmetry and ex ante investor's required rate of return. We also find that earnings forecast dispersion increases ex ante cost of equity capital, while analyst coverage tends to decrease the return required by investors. This is consistent with the expectation that cost of capital increases with higher levels of information uncertainty and asymmetry.

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Bibliographic Info

Article provided by Elsevier in its journal International Review of Economics & Finance.

Volume (Year): 27 (2013)
Issue (Month): C ()
Pages: 611-620

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Handle: RePEc:eee:reveco:v:27:y:2013:i:c:p:611-620

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Web page: http://www.elsevier.com/locate/inca/620165

Related research

Keywords: Information asymmetry; Cost of capital; Analyst forecast;

References

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Cited by:
  1. Shen, Carl Hsin-han, 2014. "Pecking order, access to public debt market, and information asymmetry," International Review of Economics & Finance, Elsevier, vol. 29(C), pages 291-306.
  2. Márquez, Elena & Nieto, Belén & Rubio, Gonzalo, 2014. "Stock returns with consumption and illiquidity risks," International Review of Economics & Finance, Elsevier, vol. 29(C), pages 57-74.

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